When Treating Workers Well Leads to More Innovation

There’s a reason companies like Google and Facebook offer their employees so many perks, according to new research: firms that treat workers better are more innovative.

In a recent working paper, currently under review by the Journal of Corporate Finance, researchers from Monash University and LaTrobe University in Australia compared a common measure of worker treatment to patent data, and found that companies with higher worker treatment scores produced more patents, and more highly cited patents. Not only that, firms with better worker treatment scores produced more relevant patents, ones that were more closely aligned with the firm’s existing expertise.

The correlation between worker treatment — things like safety, employee relations, diversity, and corporate governance – held even after controlling for numerous factors, like firm size and R&D spending.

This is not the first paper to connect the interests of workers with innovation. A paper published in the Journal of Financial Economics earlier this year found that firms that offered stock options to non-executive employees were more innovative, and suggested that the relationship was causal.

Another paper, from 2010, looked at the effects of labor laws in the U.S. and abroad on innovation. The researchers discovered that the implementation of laws making it more difficult to dismiss workers increased innovation.

But not everything that’s good for workers is necessarily good for innovation. A forthcoming paper in Management Science examined the impact of unionization on innovation. It looked at U.S. firms from 1980 to 2005 that voted to unionize, but where the vote was close. The idea was that a close vote mirrored an experiment – the vote could plausibly have gone either way, so it was somewhat random whether the firm ended up unionized. The researchers found that unionization caused a significant decline in innovation, measured by the number and quality of patents issued. (Previous research on how unionization impacts innovation, measured by R&D spending, has been more mixed.)

Why might some worker benefits make firms more innovative, but not others? Economic theory suggests the answer may have to do with long-term incentives. If workers feel pressure to deliver results in the short-term, either for fear of being fired or in order to be promoted, they may be less likely to pursue riskier innovations. On the other hand, if failure in the short-term is acceptable or even rewarded, and if workers have a stake in the company’s long-term performance, they should be more likely to innovate.

Employee stock options clearly meet these criteria, by tying workers’ incentives to the long-term fate of the company. Other worker benefits may also encourage workers to take a longer view, at least indirectly; more satisfied workers stay at the firm longer, and therefore have more of a stake in the company’s long-term success. Labor laws may have a similar effect.

So what’s different about unions? Daniel Bradley, a professor at the University of South Florida and co-author of the unionization study, suggested the answer is loyalty. “Union employees invest significantly less in their company’s 401k compared to non-union workers,” he told me, citing a 2009 study which interprets this fact as evidence that union workers are less loyal to their employer. “Unionization inhibits employee loyalty,” he continued, “because having a too loyal workforce would jeopardize the collective bargaining process.”

“Ultimately, firms must find a way of motivating employees to be willing to take risks in order to come up with innovative inventions,” said Edward Podolski-Boczar, professor at LaTrobe, and co-author of the worker treatment paper. “Not all forms of improved employee conditions naturally translate into improved innovation outcomes,” he added, when I asked about the unionization result. But as his research demonstrates, many do.

Treating workers well is part of building an innovative company, but it isn’t enough. Employees also need to have a long-term stake in the company’s success.